-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, I6PKIE+jLQ1luEwgb5KorgWzpNiCYfJT2zGLNURNrqLkEh0rm9+7joL6Ep3uYjJ0 9OZWJuZzIe/GNNVAga0IYA== 0000927016-02-002734.txt : 20020513 0000927016-02-002734.hdr.sgml : 20020513 ACCESSION NUMBER: 0000927016-02-002734 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 20020331 FILED AS OF DATE: 20020513 FILER: COMPANY DATA: COMPANY CONFORMED NAME: DYNAMICS RESEARCH CORP CENTRAL INDEX KEY: 0000030822 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMPUTER INTEGRATED SYSTEMS DESIGN [7373] IRS NUMBER: 042211809 STATE OF INCORPORATION: MA FISCAL YEAR END: 1229 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-02479 FILM NUMBER: 02642611 BUSINESS ADDRESS: STREET 1: 60 FRONTAGE ROAD CITY: ANDOVER STATE: MA ZIP: 01810-5498 BUSINESS PHONE: 9784759090 MAIL ADDRESS: STREET 1: 60 FRONTAGE ROAD CITY: ANDOVER STATE: MA ZIP: 01810-5498 10-Q 1 d10q.txt FORM 10-Q Form 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 [X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Quarterly Period Ended March 31, 2002. OR [_] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Transition Period from ___ to ___. Commission File No.1-7348 DYNAMICS RESEARCH CORPORATION ----------------------------- (Exact name of registrant as specified in its charter) Massachusetts 04-2211809 ---------------------------------------------- (State or other Jurisdiction of (I.R.S. Employer Incorporation or Organization) Identification No.) 60 Frontage Road, Andover, Massachusetts 01810-5498 ----------------------------------------------------------------- (Address of Principal Executive Offices) (Zip Code) Registrant's telephone number, including area code (978) 475-9090 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ____. ------ The number of shares outstanding of the Registrant's Common stock, par value $.10 per share, at May 6, 2002 was 8,053,957 shares. 1 DYNAMICS RESEARCH CORPORATION INDEX
Page Part I Financial Information Number ------ Item 1. Financial Statements Consolidated Balance Sheets - March 31, 2002 and December 31, 2001 3 Consolidated Statements of Operations - Three Months Ended March 31, 2002 and March 31, 2001 4 Consolidated Statements of Cash Flows - Three Months Ended March 31, 2002 and March 31, 2001 5 Notes to Consolidated Financial Statements 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 11 Part II. Other Information Item 6. Exhibits and Reports on Form 8-K 16 Signatures 17
2 PART I. FINANCIAL INFORMATION DYNAMICS RESEARCH CORPORATION CONSOLIDATED BALANCE SHEETS (in thousands of dollars except share and per share data)
(unaudited) Assets March 31, 2002 December 31, 2001 - ------ -------------- ----------------- Current assets Cash and cash equivalents $ 18,842 $ 16,657 Receivables, net of allowances of $1,396 in 2002 and $1,335 in 2001 22,401 22,946 Unbilled expenditures and fees on contracts in process 21,860 22,876 Inventories 2,792 2,960 Prepaid expenses and other current assets 2,406 1,789 ---------- ---------- Total current assets 68,301 67,228 Net property, plant and equipment 14,547 14,597 ---------- ---------- Total assets $ 82,848 $ 81,825 ========== ========== Liabilities and Stockholders' Equity - ------------------------------------ Current liabilities Current portion of long-term debt $ 500 $ 500 Accounts payable 14,179 13,588 Accrued payroll and employee benefits 9,999 11,911 Other accrued expenses 2,971 2,913 Current deferred income taxes 4,275 4,275 ---------- ---------- Total current liabilities 31,924 33,187 ---------- ---------- Long-term debt 8,625 8,750 Deferred income taxes 2,750 2,750 Commitments and contingencies Stockholders' Equity Preferred stock, par value, $.10 per share 5,000,000 shares authorized, none issued - - Common stock, par value, $.10 per share: Authorized - 30,000,000 shares Issued - 9,403,345 in 2002 and 9,320,036 in 2001 940 932 Treasury stock - 1,379,426 shares in 2002 and 2001, at par value (138) (138) Capital in excess of par value 32,209 31,331 Unearned compensation (953) (992) Accumulated other comprehensive income (608) (608) Retained earnings 8,099 6,613 ---------- ---------- Total stockholders' equity 39,549 37,138 ---------- ---------- Total liabilities and stockholders' equity $ 82,848 $ 81,825 ========== ==========
The accompanying notes are an integral part of these consolidated financial statements. 3 DYNAMICS RESEARCH CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands of dollars except share and per share data) (unaudited)
Three Three Months Ended Months Ended March 31, 2002 March 31, 2001 -------------- -------------- Revenue Contract revenue $ 44,771 $ 42,372 Product sales 4,475 6,268 -------------- -------------- Total revenue 49,246 48,640 Costs and expenses Cost of contract revenue 38,709 37,299 Cost of product sales 3,660 4,531 Selling, engineering and administrative expenses 4,332 4,330 -------------- -------------- Total operating costs and expenses 46,701 46,160 -------------- -------------- Operating income 2,545 2,480 Interest expense, net 39 242 -------------- -------------- Income before provision for income taxes 2,506 2,238 Provision for income taxes 1,020 918 -------------- -------------- Net income $ 1,486 $ 1,320 ============== ============== Earnings per share - ------------------ Net income per common share - basic $ 0.19 $ 0.17 Net income per common share - diluted $ 0.17 $ 0.17 Weighted average shares outstanding - ----------------------------------- Weighted average shares outstanding - basic 7,865,575 7,601,519 Dilutive effect of options and restricted stock 1,002,489 185,008 -------------- -------------- Weighted average shares outstanding - diluted 8,868,064 7,786,527 ============== ==============
The accompanying notes are an integral part of these consolidated financial statements. 4 DYNAMICS RESEARCH CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands of dollars) (unaudited)
Three Three Months Ended Months Ended March 31, 2002 March 31, 2001 -------------- -------------- Cash provided by operations Net income $ 1,486 $ 1,320 Adjustments to reconcile net income to cash provided by operating activities Non-cash stock compensation expense 39 - Tax benefit from stock options exercised 115 - Depreciation and amortization 801 819 Deferred income taxes - 801 -------------- -------------- 2,441 2,940 -------------- -------------- Cash provided by (used for) working capital Receivables 545 9,021 Unbilled expenditures and fees on contracts in process 1,016 (2,221) Inventories 168 (470) Prepaid expenses and other current assets (617) 2,304 Accounts payable 591 342 Accrued payroll and employee benefits (1,912) (118) Other accrued expenses 58 (662) -------------- -------------- (151) 8,196 -------------- -------------- Net cash provided by operating activities 2,290 11,136 -------------- -------------- Cash used for investing activities Additions to property, plant and equipment (751) (650) -------------- -------------- Net cash used for investing activities (751) (650) -------------- -------------- Cash provided by (used for) financing activities Principal payment under 10-year mortgage (125) (125) Net repayments under revolving credit agreement - (5,784) Proceeds from the exercise of stock options 771 - -------------- -------------- Net cash provided by (used for) financing activities 646 (5,909) -------------- -------------- Net increase in cash and cash equivalents 2,185 4,577 Cash and cash equivalents at the beginning of the period 16,657 527 -------------- -------------- Cash and cash equivalents at the end of the period $ 18,842 $ 5,104 ============== ============== Supplemental information Cash paid for interest $ 119 $ 278 Cash paid for taxes $ 561 $ 120
The accompanying notes are an integral part of these consolidated financial statements. 5 DYNAMICS RESEARCH CORPORATION Notes to Consolidated Financial Statements ------------------------------------------ Note 1. Significant Accounting Policies - ---------------------------------------- Principles of Consolidation - --------------------------- The accompanying consolidated financial statements include the accounts of the company and its wholly owned subsidiaries. All material intercompany transactions and balances have been eliminated in consolidation. Certain prior period amounts have been reclassified to conform to current period presentation. Certain information in footnote disclosures normally included in financial statements, prepared in accordance with accounting principles generally accepted in the United States, has been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission. The registrant believes that the disclosures are adequate to make the information presented not misleading. Independent accountants have not audited the accompanying consolidated financial statements. In the opinion of the management, such financial statements include all normally recurring adjustments necessary to fairly present the results of operations. The results of the three months ended March 31, 2002 may not be indicative of the results that may be expected for the fiscal year ended December 31, 2002. Risks, Uncertainties and Use of Estimates - ----------------------------------------- There are certain business risks specific to the industries in which the company operates. These risks include, but are not limited to, estimates of costs to complete contract obligations, changes in government policies and procedures, government contracting issues and risks associated with technological development. The preparation of financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements. Estimates and assumptions also affect the amount of revenue and expenses during the reported period. Actual results could differ from those estimates. Revenue Recognition - ------------------- The company's systems and services business provides its services under time and materials, cost reimbursable and fixed-price contracts. Accordingly, the company adheres to generally accepted contract accounting principles. For time and materials contracts, revenue reflects the number of direct labor hours expended in the performance of a contract multiplied by the contract billing rate, as well as reimbursement of other billable direct costs. The risk inherent in time and materials contracts is that actual costs differ materially from negotiated billing rates in the contract, which directly affects operating income. Under fixed-price contracts, revenue is recognized under the percentage of completion method, on the basis of costs incurred in relation to estimated total costs to complete the contract. The risk to the company on a fixed-price contract is that if actual costs exceed the estimated costs to complete the contract, then profit is eroded or losses are incurred. For cost reimbursable contracts, revenue is recognized as costs are incurred and include a proportionate amount of the fee earned. Cost reimbursable contracts specify the contract fee in dollars or as a percentage of estimated costs. The primary risk on a cost reimbursable contract is that a government audit of direct and indirect costs could result in the disallowance of certain costs, which would directly impact revenue and margin 6 on the contract. Historically, such audits have had no material impact on the company's revenue and margin. For all types of contracts, the company recognizes anticipated contract losses as soon as they become known and estimable. Out-of-pocket expenses that are reimbursable by the customer are included in contract revenue and cost of contract revenue. Unbilled expenditures and fees on contracts in process are the amounts of recoverable contract revenue, which had not been billed at the balance sheet date. Costs related to United States Government contracts, including applicable indirect costs, are subject to audit by the government. Revenue from such contracts has been recorded at amounts expected to be realized upon final settlement. Revenue from product sales, less associated warranty costs, is generally recognized at the time of shipment. Inventories - ----------- Inventories stated at the lower of cost or market (in thousands of dollars): - -------------------------------------------------------------------------------- March 31, 2002 December 31, 2001 -------------- ----------------- Work in process $ 276 $ 296 Raw materials and subassemblies 2,516 2,664 -------------- ----------------- Total inventories $ 2,792 $ 2,960 ============== ================= Property, Plant and Equipment - ----------------------------- Property, plant and equipment stated at cost (in thousands of dollars): - -------------------------------------------------------------------------------- March 31, 2002 December 31, 2001 -------------- ----------------- Land $ 1,126 $ 1,126 Building 8,587 8,587 Machinery and equipment 48,305 47,546 Leasehold improvements 2,715 2,723 -------------- ----------------- Total property, plant and equipment 60,733 59,982 Less accumulated depreciation and amortization 46,186 45,385 -------------- ----------------- Net property, plant and equipment $ 14,547 $ 14,597 ============== ================= New Accounting Pronouncements - ----------------------------- In June 2001, the Financial Accounting Standards Board (the "FASB") issued Statement of Financial Accounting Standard (SFAS) No. 141, Business Combinations and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires business combinations initiated after June 30, 2001 to be accounted for using the purchase method. It also specifies the types of acquired intangible assets required to be recognized and reported separately from goodwill. SFAS No. 142 requires that goodwill and certain intangibles no longer be amortized, but instead be tested for impairment at least annually. SFAS No. 142 was effective for the company beginning January 1, 2002. The adoption of SFAS Nos. 7 141 and 142 did not have an impact on the company's financial position or results of operations, because it currently has no goodwill or other intangible assets recorded. In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. SFAS No. 144 modifies the rules for accounting for the impairment of long-lived assets. The new rules are effective for the company beginning January 1, 2002. The adoption of SFAS No. 144 did not have a material impact on the company's financial position or results of operations. Earnings Per Common Share - ------------------------- Basic earnings per share is computed by dividing net income by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share is determined by giving effect to the exercise of stock options and restricted stock using the treasury stock method. Due to their antidilutive effect, 1,000 and 58,800 stock options were excluded from the calculation of diluted earnings per share in the first quarter of 2002 and 2001, respectively. Note 2. Contract Loss Provision - ------------------------------- In 1997, the company entered into a fixed-price software development contract with the Colorado Department of Human Services. In prior years, this contract incurred cost overruns that were provided for, when estimated, in the company's results of operations. Implementation of the final phase of this project was commenced in the first quarter of 2002 and was completed on April 12, 2002. With the exception of punch-list items and the system warranty period, this completes the contract. The company believes that it has reasonably estimated and provided for the costs to complete the Colorado contract at March 31, 2002. Note 3. Restructuring - --------------------- In the fourth quarter of 1999, the company adopted a restructuring plan intended to reduce overhead costs and increase efficiencies. The company recorded a restructuring charge of $1.2 million. The remaining reserve balance from this action was $0.2 million at December 31, 2000. During the first six months of 2001, the company expended the remaining restructuring reserve, primarily for continuation pay for employees who had left the company prior to December 31, 2000. Note 4. Discontinued Operations - ------------------------------- In June 1999, the company completed the sale of its previously discontinued Telecommunications Fraud Control business for $1.7 million plus royalties. No royalty income was recognized in the first three months of 2002 or 2001. The company may benefit modestly from future royalty payments through July 31, 2002, up to a cap of $0.9 million, net of taxes. These payments will be recorded as a gain from discontinued operations, after deducting taxes, when received. Note 5. Debt - ------------ The company's revolving credit agreement (the "Revolver") dated February 10, 2000, allows the company to borrow up to the lesser of $20 million or 80% of eligible accounts receivable, as defined by the agreement. The Revolver expires on February 10, 2003. Interest on the outstanding balance of the Revolver is payable monthly. Prior to February 2001, interest accrued at the prime rate and the agreement included a fee of 0.375% on the unused portion of the Revolver. Beginning in February 2001, the company received the option to elect, on a fixed 30, 60 or 90-day term, an interest rate of LIBOR plus 2% or the prime rate. In addition, the fee on the unused Revolver was reduced to 0.25%. 8 Effective June 30, 2001, the Revolver was amended (the "Amended Revolver") to release the banks' secured interest in the company's assets and to continue the Amended Revolver on an unsecured basis. At March 31, 2002, there was no outstanding balance under the Amended Revolver, and the company had $14.4 million of unused credit line available. At December 31, 2001, there was no outstanding balance under the Amended Revolver, and the company had $15.2 million of unused credit line available. At March 31, 2002, the interest rate on the Amended Revolver under the 30-day LIBOR option was 3.88%. The company has a 10-year mortgage loan (the "Mortgage"), dated June 12, 2000, on the company's real estate. The outstanding balance of the Mortgage was $9.1 million and $9.3 million at March 31, 2002 and December 31, 2001, respectively. The agreement requires quarterly principal payments of $125,000 beginning on August 1, 2000, with a final payment of $5 million in June 2010. Interest on the Mortgage accrued at the rate of LIBOR plus 2.5% at March 31, 2001. Effective November 6, 2001, the interest rate on the Mortgage was reduced to LIBOR plus 2.0%. The interest rate on the Mortgage under the 90-day LIBOR option elected at January 11, 2002, was 3.89% on March 31, 2002. The Mortgage is secured by the corporate office facility in Andover, Massachusetts. The Amended Revolver and Mortgage require the company to meet certain financial covenants including maintaining a minimum tangible net worth, cash flow and debt coverage ratios, as well as limit the company's ability to incur additional debt, to pay dividends, to purchase capital assets, to sell or dispose of assets, to make additional acquisitions or investments, or to enter into new leases, among other restrictions. The company was in compliance with all covenants on March 31, 2002. Note 6. Commitments and Contingencies - -------------------------------------- As a defense contractor, the company is subject to many levels of audit and review, including the Defense Contract Audit Agency, the Inspector General, the Defense Criminal Investigative Service, the General Accounting Office, the Department of Justice and Congressional Committees. Both related to and unrelated to its defense industry involvement, the company is, from time to time, involved in audits, lawsuits, claims, administrative proceedings and investigations. The company accrues for liabilities associated with these activities when it becomes probable that future expenditures will be made and for which such expenditures can be reasonably estimated. In management's opinion, the outcome from such audits and other matters discussed above is not expected to have a material adverse effect on the company's financial position or results of operations. The United States Attorney's Office is investigating certain company activity and billing transactions from prior years. The company does not know, at this time, what financial effects, if any, may result to the company from these matters. Note 7. Segment Information - ---------------------------- Identifiable assets by business segment include both assets directly identified with those operations and an allocable share of jointly used assets. 9 Summarized financial information by business segment for the three months ended March 31, 2002 and March 31, 2001 are as follows (in thousands of dollars): - --------------------------------------------------------------------------------
Identifiable Systems Continuing and Metri- Operations Services Encoder graphics Corporate Total ---------------------------------------------------------------- March 31, 2002 Net sales $ 44,771 $ 2,187 $ 2,288 $ - $ 49,246 Operating income (loss) 2,498 (473) 520 - 2,545 Identifiable assets at March 31, 2002 47,304 4,220 3,238 28,086 82,848 March 31, 2001 Net sales $ 42,372 $ 3,490 $ 2,778 $ - $ 48,640 Operating income (loss) 1,713 (297) 1,064 - 2,480 Identifiable assets at March 31, 2001 52,053 6,277 2,903 13,243 74,476
Net sales and operating income (loss) are presented after the elimination of intersegment transactions, which are not material. During the first quarter of 2002 and 2001, revenue from Department of Defense (DoD) customers represented approximately 74% and 69% of total revenue, respectively. Revenue earned from one significant DoD contract represented approximately 13% and 18% of total revenue in the first three months of 2002 and 2001, respectively. Note 8. Sale of Tactical Communications Group - --------------------------------------------- On June 1, 2001, the company completed the sale of its Tactical Communications Group ("TCG") and the transfer of related employees and assets. TCG developed and sold communications software for defense applications. For the first three months of 2001, TCG recorded revenue of approximately $0.5 million and a loss of $0.3 million. The sale resulted in a net loss of $0.2 million, shown as Other expense on the Consolidated Statements of Operations in the second quarter of 2001. Proceeds from the transaction were $0.1 million in cash, with a $50,000 note receivable due one year from the date of sale. Note 9. Stock Plans - -------------------- On January 30, 2001, company's shareholders approved the adoption of the 2000 Employee Stock Purchase Plan (the "ESPP"). The ESPP is designed to give eligible employees an opportunity to purchase common stock of the company through accumulated payroll deductions. The purchase price of the stock is equal to 85% of the fair market value of a share of common stock on the first day or last day of the each three-month offering period, whichever is lower. All employees of the company or designated subsidiaries who customarily work at least 20 hours per week and do not own five percent or more of the company's common stock are eligible to participate in the purchase plan. A total of 800,000 shares have been reserved for issuance under the ESPP of which 713,949 shares remain unissued at March 31, 2002. The program commenced in May 2001. In the first quarter of 2002, 27,664 shares were issued through the plan. During the second quarter of 2001, the Board of Directors approved the Executive Long Term Incentive Program (the "ELTIP"), implemented under the provisions of the shareholder approved 2000 Incentive 10 Plan. The ELTIP provides incentives to program participants through a combination of stock options and restricted stock grants which vest fully in seven years. The ELTIP allows for accelerated vesting based on the company's achievement of specified financial performance goals. During the second quarter of 2001, the company granted under this plan stock options totaling 750,000 shares of common stock at fair market value and granted 121,000 shares of restricted common stock with approximately $1.1 million of compensatory value to be amortized over the vesting period of the grant. In the first three months of 2002, the company recognized approximately $39,000 of compensation expense under this plan. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Results of Operations Total revenue increased slightly to $49.2 million in the first quarter of 2002 compared with $48.6 million in the first quarter of 2001. Contract revenue for the Systems and Services segment increased 5.7% to $44.8 million in the first three months of 2002 compared with $42.4 million in the same period last year. Defense revenues grew 7.7%, or $2.6 million in the first quarter of 2002 compared with the same quarter last year primarily due to increased business with the Navy. The first quarter of 2001 included $0.5 million of revenue from the Tactical Communications Group (see Note 8), which was subsequently sold in the second quarter of 2001, and $0.7 million of residual revenue from the company's transition from a prime contractor position to a subcontract position with a major customer at the Dayton, Ohio operations. Excluding these non-recurring items, defense revenue grew 11% in the first quarter of 2002 when compared with the same quarter of 2001. Revenue from federal civilian operations, primarily related to additional work orders from the Internal Revenue Service, increased 61.0% to $3.7 million for the quarter ended March 31, 2002, compared with the same quarter a year ago. State and local government revenue was $4.5 million and $6.0 million for the first quarter of 2002 and 2001, respectively. The decrease resulted primarily from a $0.6 million curtailment of work in Ohio and from a planned reduction of work as the Colorado Trails software development project contract neared completion (see Note 2). For the past three years, the company has been the prime contactor on the United States Air Force Electronic Systems Center's Combat Air Forces Command program office support contract. Effective April 1, 2002, the five-year follow-on contract was awarded to another contractor, of which the company is a team member. The company recognized annual contract revenues of $23 million in 2001. Of that amount, subcontracted work totaled approximately $14 million. Substantially all of the company's 52 people supporting the program office have been retained under the new contract that began on April 1, 2002. While the company endeavors to retain its staff on this program, there can be no assurance these efforts will succeed. Product sales for the Precision Manufacturing Group decreased 28.6% to $4.5 million in the first three months of 2002 compared with $6.3 million in the same period of 2001. Metrigraphics Division sales decreased 17.6% to $2.3 million in the first quarter of 2002 compared to $2.8 million in the first quarter of 2001. The decrease was due to lower sales of inkjet printer cartridge nozzle plates. Encoder Division sales declined to $2.2 million in the first three months of 2002 from $3.5 million for the same period in 2001. These decreases are reflective of the current state of the capital equipment manufacturing market. 11 Total gross margin was $6.9 million and $6.8 million in the first quarter of 2002 and 2001, respectively, representing 14.0% total revenue in the first three months of both 2002 and 2001. Gross margin on contract revenue increased 19.5% to $6.1 million in the first three months of 2002 compared with $5.1 million for the first three months 2001, representing 13.5% and 12.0% of contract revenue in the first quarter of 2002 and 2001, respectively. The absence of the divested Tactical Communications Group's results in the first quarter of 2002 contributed 0.9% to the margin improvement. The increase in gross margin also reflected the loss of low margin pass-through subcontract revenue discussed above, as well as a decrease in overhead costs as a percent of revenue. In 1997, the company entered into a fixed-price software development contract with the Colorado Department of Human Services. In prior years, this contract incurred cost overruns that were provided for, when, estimated, in the company's results of operations. Implementation of the final phase of this project was commenced in the first quarter of 2002 and was completed on April 12, 2002. With the exception of punch-list items and the system warranty period, this completes the contract. The company believes that it has reasonably estimated and provided for the costs to complete the Colorado contract at March 31, 2002. In the first quarter of 2002 and 2001, gross margin on product sales was $0.8 million and $1.7 million, respectively, representing 18.2% and 27.7% of product sales in the first three months of 2002 and 2001, respectively. The decrease is due primarily to the decline in Encoder revenue as a comparable level of overhead costs were spread over a lower level of revenue in the first quarter of 2002 compared with the same quarter of 2001. Operating expenses remained constant at $4.3 million for the first three months of 2002 and 2001. Sales and marketing expenses for systems and services were up $0.3 million in the first quarter of 2002 compared with the same quarter last year, offset by a similar decline in general and administrative and precision manufacturing sales expenses. Total operating income was $2.5 million for the first three months of both 2002 and 2001. As a percent of revenue, operating income was 5.2% and 5.1% for the first quarter of 2002 and 2001, respectively. Operating income and margin increased for the systems and services segment and decreased for the Precision Manufacturing Group in the first quarter of 2002 when compared with the same quarter last year. On June 1, 2001, the company completed the sale of its Tactical Communications Group ("TCG") and the transfer of related employees and assets. TCG developed and sold communications software for defense applications. For the first three months of 2001, TCG recorded revenue of approximately $0.5 million and a loss of $0.3 million. The sale resulted in a net loss of $0.2 million, shown as Other expense on the Consolidated Statements of Operations in the second quarter of 2001. Proceeds from the transaction were $0.1 million in cash, with a $50,000 note receivable due one year from the date of sale. Net interest expense was $39 thousand and $0.2 million for the first three months of 2002 and 2001, respectively, reflecting lower average interest rates and debt levels, and the net benefit of investment income on cash balances. Income tax expense for the first quarter of 2002 and 2001 was $1.0 million and $0.9 million, respectively, representing 40.7% and 41.0% of pre-tax income for the first three months of 2002 and 2001, respectively. In the fourth quarter of 1999, the company adopted a restructuring plan intended to reduce overhead costs and increase efficiencies. The company recorded a restructuring charge of $1.2 million. The restructuring reserve balance was $0.2 million at December 31, 2000. During the first six months of 12 2001, the company expended the remaining restructuring reserve, primarily on continuation pay for employees who had left the company prior to December 31, 2000. Recent increases in the company's stock price and an increased level of options granted have resulted in a greater number of employee stock options counted as outstanding common equivalent shares and included in the dilutive effect of options for the purpose of computing diluted earnings per share. Outstanding common and common equivalent shares increased from 7.8 million at March 31, 2001 to 8.9 million at March 21, 2002, which diluted earnings per share by $.02 per share for the first quarter of 2002. The company's total employment at March 31, 2002 was 1,501, down from 1,517 at December 31, 2001. The company's funded backlog was $92.0 million at March 31, 2002, up from $91.4 million at December 31, 2001. A portion of the company's backlog is based on annual purchase contracts. The amount of backlog as of any date can be affected by the timing of order receipts and associated deliveries. Liquidity and Capital Resources Cash provided by operating activities in the first quarter of 2002 was $2.3 million, primarily resulting from net income and decreased unbilled expenditures and fees on contracts in process offset by decreased accrued payroll and employee benefits. Cash provided by operating activities in the first quarter of 2001 was $11.1 million primarily resulting from decreased accounts receivable, an income tax refund of $2.2 million, and positive cash earnings partially offset by increased unbilled expenditures and fees on contracts in process. Cash used for investing activities was $0.8 million and $0.7 million in the first three months of 2002 and 2001, respectively, related to the purchase of plant and equipment. The company's revolving credit agreement (the "Revolver") dated February 10, 2000, allows the company to borrow up to the lesser of $20 million or 80% of eligible accounts receivable, as defined by the agreement. The Revolver expires on February 10, 2003. Interest on the outstanding balance of the Revolver is payable monthly. Prior to February 2001, interest accrued at the prime rate and the agreement included a fee of 0.375% on the unused portion of the Revolver. Beginning in February 2001, the company received the option to elect, on a fixed 30, 60 or 90-day term, an interest rate of LIBOR plus 2% or the prime rate. In addition, the fee on the unused Revolver was reduced to 0.25%. Effective June 30, 2001, the Revolver was amended (the "Amended Revolver") to release the banks' secured interest in the company's assets and to continue the Amended Revolver on an unsecured basis. At March 31, 2002, there was no outstanding balance under the Amended Revolver, and the company had $14.4 million of unused credit line available. At December 31, 2001, there was no outstanding balance under the Amended Revolver, and the company had $15.2 million of unused credit line available. At March 31, 2002, the interest rate on the Amended Revolver under the 30-day LIBOR option was 3.88%. 13 The company has a 10-year mortgage loan (the "Mortgage"), dated June 12, 2000, on the company's real estate. The outstanding balance of the Mortgage was $9.1 million and $9.3 million at March 31, 2002 and December 31, 2001, respectively. The agreement requires quarterly principal payments of $125,000 beginning on August 1, 2000, with a final payment of $5 million in June 2010. Interest on the Mortgage accrued at the rate of LIBOR plus 2.5% at March 31, 2001. Effective November 6, 2001, the interest rate on the Mortgage was reduced to LIBOR plus 2.0%. The interest rate on the Mortgage under the 90-day LIBOR option elected at January 11, 2002, was 3.89% on March 31, 2002. The Mortgage is secured by the corporate office facility in Andover, Massachusetts. The Amended Revolver and Mortgage require the company to meet certain financial covenants including maintaining a minimum tangible net worth, cash flow and debt coverage ratios, as well as limit the company's ability to incur additional debt, to pay dividends, to purchase capital assets, to sell or dispose of assets, to make additional acquisitions or investments, or to enter into new leases, among other restrictions. The company was in compliance with all covenants on March 31, 2002. In the first quarter of 2002, the company realized $0.4 million in proceeds from the exercise of stock options and $0.4 million in proceeds from the issuance of shares under the employee stock purchase plan. In the first three months of 2001, no proceeds were realized from the exercise of stock options. The company has initiated an acquisition program through which it can acquire and integrate smaller companies that fit closely with the company's strategy. During the first quarter of 2002, the company signed non-binding letter of intent agreements to acquire two firms. The company is currently conducting due diligence. At this time, the company cannot accurately predict if or when these transactions will close. The company continues to investigate other candidates and is focused on companies with revenue in the range of $30 million to $40 million. As a defense contractor, the company is subject to many levels of audit and review, including the Defense Contract Audit Agency, the Inspector General, the Defense Criminal Investigative Service, the General Accounting Office, the Department of Justice and Congressional Committees. Both related to and unrelated to its defense industry involvement, the company is, from time to time, involved in audits, lawsuits, claims, administrative proceedings and investigations, and accrues for liabilities associated with these activities, if any, for which the company considers it probable that future expenditures will be made and for which such expenditures can be reasonably estimated. In management's opinion, the outcome from such audits and other matters discussed above is not expected to have a material adverse effect on the company's financial position or results of operations. The United States Attorney's Office is investigating certain company activity and billing transactions from prior years. The company does not know, at this time, what financial effects, if any, may result to the company from these matters. The company's prospective cash flows are subject to certain trends, events and uncertainties, including demands for capital to support growth, economic conditions, government payment practices and contractual matters. The company's capital expenditures are expected to be approximately $6 million in 2002, primarily for technology advancements, infrastructure improvements and capacity expansion in support of growth and operational performance enhancement. The company's need for, cost of, and access to funds are dependent on future operating results, as well as conditions external to the company. Based upon its current business plan, the company believes that its current assets, cash flows from 14 operations and available lines of credit are sufficient to support its existing operations and capital requirements for the foreseeable future. The company considered the disclosure requirements regarding critical accounting policies and liquidity and capital resources, certain trading activities and related party transactions. The company concluded that nothing material changed during the quarter that would warrant further disclosure. Forward-Looking Information Safe harbor statements under the Private Securities Litigation Reform Act of 1995: Some statements contained or implied in this quarterly report, which are not historical fact such as financial forecasts, contain forward-looking information. These statements may be identified by forward-looking words such as "expect," "look," "believe," "anticipate," "may," "will" and other forward-looking terminology. Such statements are subject to risks and uncertainties that could cause actual results to differ materially, including uncertainties regarding contractual requirements, actions by customers and actual costs to complete; federal budget matters; government contracting risks, competitive market conditions; customer requirements, schedules and related funding; technological change; uncertainty of future financing; overall economic factors; and the ability to successfully complete and integrate acquisitions and other matters. These factors are discussed in more detail in the company's Annual Report on Form 10-K for the year ended December 31, 2001. The company assumes no obligation to update any forward-looking information. 15 PART II. OTHER INFORMATION Item 6. (a) Exhibits 10.17 Senior Management Deferred Compensation Plan Item 6. (b) Reports on Form 8-K None 16 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. DYNAMICS RESEARCH CORPORATION (Registrant) Date: May 10, 2002 By: /s/ David Keleher --------------------- David Keleher Vice President and Chief Financial Officer /s/ Donald B. Levis -------------------------- Donald B. Levis Corporate Controller and Chief Accounting Officer 17 EX-10.17 3 dex1017.txt SENIOR MANAGEMENT COMPENSATION PLAN Exhibit 10.17 DYNAMICS RESEARCH CORPORATION SENIOR MANAGEMENT DEFERRED COMPENSATION PLAN -------------------------------------------- 1. PURPOSE The purpose of the Dynamics Research Corporation Senior Management Deferred Compensation Plan (henceforth referred to as the "Plan") is to enable Dynamics Research Corporation and its affiliates (henceforth referred to as the "Company") to retain and reward key executive talent which the Company deems necessary to its business success. 2. DEFINITIONS a. Administrator - The Compensation Committee of the Board of Directors ------------ of the Company, or such individuals or others as they shall appoint to administer the Plan. b. Affiliate - A member of a controlled group of corporations of which --------- the Company is a member or; an unincorporated trade or business which is under common control with the Company as determined in accordance with Section 414(c) of the Internal Revenue Code of 1986, as amended (henceforth the "Code") and regulations issued thereunder. For purposes hereof, a "controlled group of corporations" shall mean a controlled group of corporations as defined in Section 1563(a) of the Code determined without regard to Section 1563(a)(4) and (e)(3)(C) of the Code. c. Beneficiary - The person or persons designated to receive benefits ----------- under the Plan in the event of the Participant's death. d. Board - The Board of Directors of the Company. ----- e. Change in Control - An event of the nature that: ----------------- i. Would be required to be reported in response to Item 1(a) of the current report on Form F-3, as in effect on the date hereof, pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 (henceforth the "Exchange Act"); or, ii. Without limitation such a Change in Control shall be deemed to have occurred at such time as: 1. Any "person" (as the term is used in Section 13(d) and 14(d) of the Exchange Act), or group of persons acting in concert, is or becomes the "beneficial owner" (as defined in Rule 13d-3 under the Exchange Act) directly or indirectly, of any class of equity securities of the Company representing 30% or more of a class of equity securities except for any securities purchased by the Company's employee stock ownership plan and trust; or, 2. A plan of reorganization, merger, consolidation, sale of all or substantially all the assets of the Company or similar transaction occurs in which the Company is not the resulting entity; or, 3. A proxy statement shall be distributed soliciting proxies from stockholders of the Company, by someone other than the current management of the Company, seeking stockholder approval of a plan or similar transaction with one or more corporations as a result of which the outstanding shares of the class of securities then subject to such plan or transaction are exchanged for or converted into cash or property or securities not issued by the Company; or, 4. A successful tender offer is made for 30% or more of the voting securities of the Company then outstanding. f. Code - The Internal Revenue Code of 1986, as it may from time to time ---- be amended. g. Committee - The Compensation Committee of the Board. --------- h. Company - Dynamics Research Corporation, a Massachusetts corporation, ------- and any Affiliates. i. Effective Date - The date on which this Plan is approved by the -------------- Board. j. Employee - Any person in the employ of the Company for whom the -------- Company is required to contribute Federal Insurance Contribution Act taxes. k. Fixed Period Account - A bookkeeping account that is established to -------------------- defer monies to a designated future date. l. Participant - An executive or management employee of the Company ----------- selected in writing by the Plan Administrator to participate in the Plan. m. Plan - This Senior Management Deferred Compensation Plan, as it may ---- be from time to time amended. n. Plan Year - A 12 month period commencing on the first day of the --------- Company's fiscal year following the adoption of the Plan. o. Resignation for Good Reason -The Participant terminates employment --------------------------- following a Change of Control for any of the following reasons: a reduction in benefits, duties, responsibilities or movement of the Participant's job by more than 50 miles from the location of the job at the time of the Change of Control. p. Retirement Account - A bookkeeping account that is established to ------------------ defer monies until retirement. q. Substantially Equal Amounts - An amount such that the numerator shall --------------------------- equal the balance of a Participant's account at the time of the payment, and the denominator shall equal the number of years payments remaining pursuant to the Participant's election pursuant to Section 5 of the Plan. r. Termination for Cause - The termination of a Participant upon failure --------------------- to perform stated duties or breach of a fiduciary duty involving personal dishonesty, which results in material loss to the Company or one of its Affiliates, or willful violation of any law, rule or regulation (other than traffic violations or similar offenses), which results in material loss to the Company or one of its Affiliates. s. Termination of Employment - Cessation of employment with the Company, ------------------------- regardless of cause or circumstance, and including resignation (whether or not for good reason), retirement and company-initiated termination (whether or not for cause). 3. ADMINISTRATION OF THE PLAN a. The Plan Administrator shall be an individual appointed by the Committee or, if no individual is so appointed, the Committee shall be the Plan Administrator. The Committee shall act by vote or written consent of a majority of its members. b. The Administrator (as defined) shall have the discretion to operate, interpret, and implement the Plan. The Administrator's decisions and determinations (including determinations of the meaning and reference of terms used in the Plan) shall be conclusive upon all persons. The Administrator may adopt such rules, regulations, guidelines and procedures as the Administrator deems appropriate. c. The Administrator shall have the right to hire consultants, administrators, investment advisors and other professionals necessary to administer the Plan. d. If the Administrator in its sole discretion, upon the petition of a Participant, determines that the Participant has suffered an unforeseeable financial emergency, the Company may pay to the Participant, from his or her account, an amount deemed necessary to meet such financial emergency, as compensation to that participant. 4. ELIGIBILITY a. The Plan Administrator may select Employees who, in the Administrator's sole discretion, are considered key Employees of the Company, and eligible to participate in the Plan. b. If a Participant is terminated for Cause, the Participant shall forfeit all unvested amounts under the Plan. 5. DEFERRALS a. Each Participant shall have the ability to defer up to One Hundred Percent (100%) of any cash incentive payments from the Company, and any salary in excess of the earnings ceiling for FICA purposes. i. Elections to defer compensation shall be filed with the Company at the following times: 1. Base salary deferral elections must be made prior to December 31 of the Plan Year prior to the year in which this base salary would otherwise be earned. 2. Incentive compensation deferrals must be made prior to June 30 of the Plan Year prior to the year in which payment of the incentive would otherwise be made. 3. A newly designated Eligible Employee may elect to defer monies under this program by filing an election with the Administrator within 30 days of such eligibility. ii. At the time of the deferral, the Participant shall elect: 1. The percentage of the deferral that is allocated to the Retirement Account and, if selected, to the Fixed Period Account; and 2. The period of deferral (of at least one year) for the Retirement Account and, if selected, for the Fixed Period Account; and, 3. The form of distribution for each account, which may be: a. A lump sum; or b. Substantially Equal Annual Installments not to exceed 10. b. A Participant may change the distribution date for the Retirement Account or the Fixed Period Account upon written notice to the Administrator. However, the change cannot take effect for twelve (12) full consecutive calendar months. For example, if a participant had previously elected to receive a Fixed Period Account lump sum distribution on June 1, 2007, and on June 12, 2003 the Participant elected to receive the distribution at the earliest possible date, the earliest distribution date to elect would be July 1, 2004. c. The Company shall have the right, but not the obligation, to make contributions to a Participant's account for any purpose whatsoever. To the extent that the Company makes additional contributions to a Participant's account, such contributions shall be segregated into a separate account for the Participant, and such contributions may be subjected to vesting, pursuant to Section 8. 6. ACCOUNTS AND VALUATIONS a. The Company shall establish and maintain separate deferred compensation bookkeeping accounts for each Participant. Each Participant's account shall be credited with unfunded earnings based on this Section 6. b. The Company, in its sole discretion, may establish a separate trust within the Company to hold any deferrals and unfunded credited earnings thereon. If the Company so elects, such trust may be funded with assets of the Company, provided however, that such funding mechanism shall not place any funds beyond the reach of the general creditors of the Company. c. Each Participant may designate his or her investment preference(s) within unfunded mutual fund options selected by the Company. i. The Plan will credit Participant's accounts (Retirement and Fixed Period) with earnings or losses based on the rate of return experienced by the investment funds included in the accounts. ii. Participants will receive a statement of their account balances quarterly. These statements will show the contributions made during the quarter, the earnings credited or the losses debited, and the account values at the beginning and end of the quarter. These statements will allow Participants to monitor their investments and the growth in the value of their accounts. 7. BENEFICIARY DESIGNATION a. Each Participant shall have the right at any time to designate any person or persons as his Beneficiary, to whom any death benefits which the Participant may have elected shall be payable. b. The designation of a Beneficiary shall become effective when it is filed in writing with the Administrator. c. The Participant may revoke a beneficiary designation at any time by filing a new election with the Administrator. 8. VESTING a. The Participant shall always be one hundred percent (100%) vested in any contributions he or she made pursuant to Section 5(a), and any earnings thereon pursuant to Section 6. b. For Company contributions made pursuant to Section 5(c) the Company may, prior to any company contributions, establish a vesting schedule that will apply to all such company contributions. 9. CHANGE OF CONTROL a. If, following a Change of Control, the Participant is terminated by the Company or its successor, or Resigns for Good Reason, then regardless of Section 5: i. Any unvested Company contributions pursuant to Section 5 shall be vested. ii. All amounts shall be paid in full at that time. 10. AMENDMENT OF THE PLAN a. The Board may at any time terminate or amend the Plan in whole or in part, provided, however, that no amendment shall be effective to reduce the accrued benefit under the Plan to any Participant without the consent of the affected Participant(s). Written notice of any amendment shall be given to each Participant. 11. MISCELLANEOUS a. Participants and their Beneficiaries, heirs, successors and assigns shall have no legal or equitable rights, interests, or other claims in any property or assets of the Company. The Company's obligation under this Plan shall be that of an unfunded and unsecured promise of the Company to pay money in the future. b. The Company may offset any amounts payable under the Plan against any debts, obligations or other liabilities owed by the Participant to the Company at the time benefits become payable under the Plan. c. Neither a Participant nor any other person shall have the right to assign, sell, transfer, pledge, anticipate, mortgage or otherwise encumber, transfer, hypothecate, or convey in advance of actual receipt the amounts, if any, payable hereunder, or any part thereof, which are expressly declared to be unassignable and nontransferable. d. Nothing herein contained shall be construed as a contract of employment, nor as giving any Participant any right to be retained in the employ of the Company. e. All pronouns and any variations thereof shall be deemed to refer to the masculine, feminine or neuter as the identity of the person or persons may require. As the context may require, singular may be read as plural and plural as singular. f. This Plan shall be governed by the laws of the Commonwealth of Massachusetts. g. In the event any provision of this Plan is held invalid, void, or unenforceable, the same shall not affect, in any respect whatsoever, the validity of any other portion of the Plan. h. Any notice or filing required or permitted under this Plan to the Company or Administrator shall be sufficient if in writing and delivered by registered or certified mail, or by hand delivery, to the principal office of the Company directed to the attention of the Secretary of the Company. Such notice shall be deemed to be given as of the date of delivery or, if delivery is made by mail, as of the date shown on the postmark on the receipt for registration or certification. i. This Plan constitutes the entire agreement of the Company with respect to the subject matter thereof and cannot be modified by any oral statement or otherwise except in writing as specified in Section 10. -----END PRIVACY-ENHANCED MESSAGE-----